One happy Mom learned that the right planning can be tax magic.

Do you have a large amount of retained earnings and excess cash in your corporation, but the double taxing power of the law has your cash locked in the corporation? Most business owners think they are stuck, but there’s a way out.

Here’s a true story of one way to get the job done. You’ll like it. Joe called me with this problem. Joe and his brother Jeff each owned 30 percent of Success Co., which they managed.

His mom, Mary, 66, owned 20 percent in her own name, and a trust created when Joe’s dad died owned the other 20 percent. Mary’s professional advisors recommended that she obtain $2 million of insurance using an irrevocable life insurance trust to pay the estate tax liability that would be due at her death — because of the value of the assets she owned directly in her own name and indirectly as a beneficiary of her deceased husband’s trust. The advisors were right. Mary needed the insurance, but she did not have any chance of coming up with the annual premium requirements of $32,000 for as long as she lived.

I asked Joe lots of questions, conferred with the advisors and requested a large pile of information — stuff like tax returns, financial statements, etc. After discovering that Success Co. had $2.5 million in excess cash, this is what I recommended.

Mary gifts $1.2 million of her Success Co. stock — the total value of Success Co. was appraised at over $8 million — to a charitable remainder trust. The charitable trust agrees to pay Mary $72,000 per year for as long as she lives. At Mary’s death, the balance, called the “remainder,” in the trust would go to charity. Each year Mary must pay $25,000 in income tax on the $72,000 of income from the charitable trust and $32,000 in premiums for the $2 million policy, which is owned by the life insurance trust, or a total of $57,000. This leaves Mary an extra $15,000 per year to buy presents for her grandchildren.

The life insurance trust will give Mary’s children $2 million in insurance proceeds when she dies. The entire $2 million will be tax free: no income tax and no estate tax.

But where does the charitable trust get the income to pay Mary? The charitable trust sells the gifted stock back to Success Co. for $1.2 million.

Let’s summarize Mary’s tax picture. Mary avoids all capital gains tax on the sale of the Success Co. stock. The balance in the charitable trust estimated at $1.1 million at Mary’s death goes to Mary’s favorite charity and is free of income tax and estate tax.

In addition, Mary gets an immediate income tax deduction of about $200,000 for her contribution to the charitable trust.

Simply put, even though Mary avoids both the capital gains tax and the estate tax, the IRS writes her a check. For what, you ask? For the present value of the remainder of the $1.2 million gifted to the charitable trust. This $200,000 (immediate deduction) results in about $70,000 in cash income tax savings for Mary — more expensive presents for the grandkids.

(Note: If Mary had sold the $1.2 million of Success Co. stock directly to the company, it would have been taxed as a dividend, resulting in a whopping tax of $180,000.)

A side note before concluding: There are many other ways to get cash or other types of property out of C corporations in a tax-effective manner. If you have such a problem, as a service to readers of this column, call me with your problem (847) 674-5295.

The use of a charitable remainder trust in tandem with an irrevocable life insurance trust is actually a method for making a tax-advantaged investment for your family. You may actually create wealth and make a real economic profit by giving to charity.

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